On Effective Tax Administration

I often wonder if our tax laws could be administered in a more cost-effective manner. Why is it that cases continue to come out where taxpayers have to spend years arguing about a tax debt with the IRS, only to have the IRS concede the issue when it comes time for the government to prove its case? This brings me to the recent case of Lites v. Commissioner.

Facts & Procedural History Of Lites v. Commissioner Case

Lites is a case that involves taxpayers who filed their federal income tax returns late (1999 and 2000 federal income tax returns were eight days late and 2001 federal income tax return twenty nine days late), failed to make the ~$66,000 tax payment, and who failed to comply with an installment agreement (after making ~$3,000 in payments). The evidence showed that the taxpayers were a husband and wife. The husband was a financial products salesman and the primary breadwinner for their family of four. The husband underwent a number of employment changes, due to a downturn in the financial markets and due to a heart condition. The taxpayer received the notice of levy, requested a hearing (a collections due process hearing), and proposed an installment agreement. Over the course of a year the taxpayers ended up making three such proposals: one for $750 per month, one for $1,000 per month, and one for $1,200 per month. In support of these offers the taxpayers asserted that they had $888 of monthly excess income. The IRS Appeals Office rejected the taxpayers’ offers, arguing that the taxpayers had $2,732 of monthly excess income and that that amount should be paid to the IRS on a monthly basis.

At trial the IRS conceded that the taxpayers excess income was $888 a month. The court opinion does not specify whether the IRS explained how they came up with the $2,732 figure or why the IRS stuck to this figure for more than a year if it was not accurate. Our tax laws require the IRS to perform an investigation of the taxpayers financial circumstances when they consider installment agreements, so the IRS must have conducted an investigation. Because the IRS conceded that the taxpayers $888 figure was correct, the IRS investigation must have confirmed the taxpayers $888 figure. Therefore the IRS claim that the taxpayers had $2,732 of excess income was not truthful, was deceptive, and was misleading. The IRS made these misrepresentations on several occasions over a period of several years.

One would think that after the IRS disclosed that it had made these misrepresentations it would agree to settle the case. However, that did not happen. Instead, the IRS took the position that it was correct in denying the taxpayers offers because the offers exceeded what the taxpayers could afford to pay. Note that the IRS had originally rejected the taxpayers offers because they were too low. Now the IRS argues that it was entitled to reject the taxpayers offers because the offers were too high.

The court correctly noted that there is no such law that permits the IRS to reject offers because they were too high. The court stated that it was confused and perplexed by the IRSs position. The court went on to say that the IRS could not have it both ways, so it remanded the case back to the IRS for reconsideration. It would be interesting to speak with these taxpayers to see if the IRS subsequently accepts their offer. It is likely that the IRS will reject the taxpayers offer once again, requiring them to seek judicial intervention again.

It is now late in the 2005 tax year and this case was partially to resolve tax liabilities for 1999. It is likely that the IRS will not fully deny the taxpayers most recent offer by the end of this year and perhaps not by the end of next year. Why is it that the IRS cannot just tell taxpayers such as the ones in this case that the IRS investigation corroborated the taxpayers claim? Why does a case like this have to drag out for the better part of a decade? The reality is that by the time that this case is resolved the government will have spent considerably more money defending its erroneous position than the amount of the underlying tax liability. It just seems like there is something wrong here. Are we missing the big picture?